Investors are cheering India’s new cryptocurrency rules and this is why

Regulations signal a partial acceptance of digital assets and will bring in the much-needed clarity into crypto investing space, analysts say

India is working towards a central bank-backed digital currency but experts say that it is unlikely that private cryptocurrencies will be accepted as legal tender. Bloomberg

Once strained, India’s relationship with cryptocurrencies is thawing.

The country had once contemplated banning digital assets. Now it is planning to launch a central bank-backed digital currency by next year and impose a tax on income from cryptocurrencies.

Edul Patel, chief executive and co-founder of Mudrex, a cryptocurrency investment platform in India, says the plan to introduce a digital rupee is a progressive step towards the country's Digital India vision.

“It can facilitate easy and efficient transactions using blockchain technology while also creating awareness about cryptocurrencies,” says Mr Patel.

Private cryptocurrencies are a threat to our macroeconomic stability and financial stability

Shaktikanta Das,
RBI governor

The digital rupee will be introduced by the Reserve Bank of India in the financial year that begins in April, Finance Minister Nirmala Sitharaman said while unveiling the country's annual budget this month.

It will be based “on blockchain and other technologies”, she said.

The government is also planning to impose a 30 per cent tax on income from digital assets.

Although the rate is steep, it is widely agreed within the industry that this sends a signal that the government is recognising cryptocurrencies as a form of investment.

“With the phenomenal increase in transactions in virtual digital assets, the government has slowly started to accept them by designing a special tax regime that did not exist prior,” says Mr Patel.

India is one of the biggest markets for cryptocurrencies in the Asia region and one of the fastest-expanding in the world. The country’s cryptocurrency market grew 641 per cent between July 2020 to July 2021, helped by its large, young and tech-savvy population, data compiled by crypto research company Chainalysis shows.

Although no official data is available, industry estimates published by Reuters suggest there are up to 20 million crypto investors in India with some $6 billion worth of holdings.

If India proceeds with the launch of the digital rupee, it would be one of the first major economies to introduce a central bank digital currency. China has been working on a digital yuan for several years and is in the early stages of trialling the currency, while the US Federal Reserve recently released a study on a digital dollar.

Despite these developments the government is still grappling with ways to regulate non-conventional assets.

The government has repeatedly expressed concerns about private cryptocurrencies, which officials fear could be used for money laundering or terror financing due to its anonymous nature. The RBI is particularly worried about private cryptocurrencies’ potential impact on the financial system and the extent to which speculative investors could be burnt.

“Private cryptocurrencies are a threat to our macroeconomic stability and financial stability,” the RBI governor Shaktikanta Das told reporters at an online press conference on Thursday, warning that such digital assets do not have any underlying value.

“They can undermine the RBI's ability to deal with issues of financial stability and macroeconomic stability.”

Such concerns and an order by the RBI banning financial institutions from supporting crypto transactions stopped the banks from dealing with transactions related to digital assets in 2018. But the country’s Supreme Court overturned the order in 2020.

New Delhi is currently working on regulations for digital assets.

India's finance minister Nirmala Sitharaman. Bloomberg

Proposed legislation could include a ban on the use of cryptocurrencies as a form of payment, with punishments that could even include jail sentences, Reuters reported in December citing sources.

“I think cryptocurrencies as a concept really challenges many governments, including the Indian government, the Indian rupee, so there is no doubt that many governments are going to have a little bit of apprehension towards cryptocurrency,” says Shaamil Karim, chief executive and founder of Diginoor, an Indian NFT or non-fungible token platform.

Although India is taking steps to adopt a digital currency, private cryptocurrencies are less likely to be welcomed or used as legal tender, experts caution.

“I think despite the massive influx of digital assets coming into the country, it will take some time before you can choose between paying for anything using an Indian rupee or a fraction of a Bitcoin,” says Pratik Gauri, chief executive and founder of 5ire, a blockchain ecosystem.

A digital currency is a cheaper and more efficient form of a currency management system

Edul Patel,
chief executive and co-founder of Mudrex

However, he and others in the industry believe virtual assets have become too widespread to ignore — a fact that the Indian authorities recognise as they take small steps towards the digital tokens.

“We are making progress on CBDCs [central bank digital currencies)]after carefully and cautiously examining it — because there are risks,” Mr Das said. “The biggest risk is of cyber security and the possibility of counterfeiting. We should absolutely prevent that.”

A CBDC would take time to be widely used in India but it has the potential to bring significant benefits, says Mr Patel.

Well-designed CBDCs are more stable when compared to unbacked crypto assets that are “inherently volatile”, Kristalina Georgieva, managing director of the International Monetary Fund, said in a speech at an Atlantic Council event last week.

“These are still early days for CBDCs and we don’t quite know how far and how fast they will go. What we know is that central banks are building capacity to harness new technologies — to be ready for what may lie ahead,” she said.

“If CBDCs are designed prudently, they can potentially offer more resilience, more safety, greater availability and lower costs than private forms of digital money,” Ms Georgieva said.

So far, about 100 countries are exploring CBDCs on some level, with some researching, some testing and a few already distributing CBDCs to the public, she said.

“A digital currency is a cheaper and more efficient form of a currency management system,” Mr Patel explains.

The launch of an electronic rupee will also advance the government’s ambitions to increase digital penetration across the country.

Given that “India has a vast rural population, it can boost financial inclusion in remote areas without the need for complex KYC [know your customer] procedures or intermediaries”, Mr Patel says.

There are scant details about how exactly a virtual rupee will work but the RBI has said that it will be the same as the normal rupee, rather than a completely distinct currency.

“We have no idea what the digital rupee is going to look like — is it a token, is it a prepaid token?” says Mr Karim. “Also, the whole utility of it is a little confusing right now.”

The digital rupee will simply be an electronic version of the existing rupee with the same value, Mr Gauri says, and the CBDC proposed by the RBI is not a cryptocurrency in its true sense.

“This is primarily because this is simply a digital representation of the Indian rupee as a legal tender for purchases,” he says.

A digital currency “will facilitate the easier transfer of the Indian rupee”, enabling the direct transfer between digital wallets of individuals and businesses, without the need for a bank account.

An official virtual currency could help accelerate the growth of the wider emerging technology market, analysts say.

“The announcement to leverage blockchain technology to create a digital rupee may give an impetus to cryptocurrency exchange platforms and related companies that operate in India,” says Ajay Kumar Thalluri, business fundamentals analyst at GlobalData, a data and analytics company.

“The launch of a central bank-regulated digital currency in India could well mark a watershed moment that may encourage companies in the private space to increase hires around the emerging Web3 technology.”

For now, government’s move to regulate cryptocurrencies and even tax income from it could bring in the much-needed clarity and even encourage first time investors.

NFT sales across Diginoor on the day the tax plan was announced surged 70 per cent, says Mr Karim, who describes the move as “a win for the industry”.

Long-term investors in cryptocurrencies like Varun Satyam, the co-founder of Hyderabad-based NFT platform Strip Finance, are encouraged by the government's moves.

“What people like us care more about is in the macro-level adoption and acceptance of these currencies,” he says.